In spite of Ford Motor Company's (NYSE:F) successful renaissance since the 2008-2009 recession, the stock has recently been mired beneath $10 after trading as high as $19 in January 2011. Recently, Ford shares have been driven down by weaker-than-expected results in Europe. However, I expect the company to unveil concrete plans in the near future for returning its Europe operations to profitability. Meanwhile, I expect to see very strong results in North America over the next few months, highlighted by the new 2013 Escape and Fusion models. This should drive multiple expansion and boost the stock up to at least $12, and possibly as high as $15, by the year-end.
In the first half of 2012, Ford earned nearly $2.8 billion in after-tax adjusted profit (i.e. excluding special items). In addition, the company generated positive free cash flow, in spite of incurring heavy capital expenditures to increase capacity in China. Nevertheless, the market was disappointed by Ford's late June announcement that international losses would be much higher in Q2 than in Q1. At that time, Ford warned that the demand environment in Europe had deteriorated significantly. This was viewed as ominous, because Ford had previously been faring better in Europe than many competitors, such as General Motors Company (NYSE:GM).
In 2011, Ford was just below breakeven in Europe for the full year, whereas GM lost $747 million. European mass-market carmakers Fiat and PSA Peugeot Citroen posted losses for their European operations, as well. For 2011, only Volkswagen performed better than Ford in Europe. Much of Ford's slide in 2012 can be attributed to investor worries that the company is now following the path of GM, Fiat, and PSA in Europe.
It is true that Ford now faces a severe overcapacity problem in Europe. However, Ford has a major advantage over GM in Europe, insofar as it has the flexibility to close one or more European factories if necessary. GM, by contrast, signed labor agreements that force it to keep all of its European plants open through the end of 2014, and GM looks set to extend those guarantees for an additional two years in order to win wage concessions from its labor unions. I expect Ford to announce a detailed plan for cutting losses in Europe by the end of the year at latest, most likely at the time of the company's Q3 earnings release in October. Furthermore, other European automakers may close factories as well, since they face similar overcapacity problems. If this happens, it will cut down on the margin-sapping price competition Ford currently faces in Europe.
The best Ford can hope for in Europe is that the situation bottoms out soon, so that the company can return to breakeven by 2014 or 2015. By contrast, Ford's performance in North America over the past few years has been extraordinary. Ford has been producing roughly 10% operating margins in North America this year, which sits at the high end of the company's long-term guidance. This has led some analysts to wonder whether the company can achieve even better margins (see Ryan Brinkman's question and Bob Shanks' reply) if sales rise as expected.
Furthermore, Ford is releasing promising new products this year in two of the largest segments of the auto market. The 2013 Ford Escape went on sale this past spring, and has sold very well so far, despite two recalls last month. The Escape is expected to see heavy advertising this fall, which should continue to drive sales gains. Meanwhile, the 2013 Ford Fusion, arriving at dealerships this fall, has received glowing reviews thus far. The 2012 Fusion has been selling very well in recent months, leaving only a 43 day supply of the vehicle at the end of July. This should help sales of the 2013 model upon release. The new version offers extra features that will improve pricing while offering the prospect of share gains. Furthermore, the smaller Ford Focus may benefit from Fusion's up-market move, as the price spread between the two models will increase.
Ford is trading today at just over 6X projected 2013 earnings. At that depressed valuation, any good news coming out of the company this fall is likely to drive the share price up. I expect strong sales of the Escape and Fusion to help on that front. Ford's North American truck sales may also benefit in the short term from the fact that rival GM is switching its truck platform over the next several months. Any news of stabilization in Europe would be a bonus.
Ford's management has shown in recent years that it is focused and skilled at navigating macroeconomic weakness. While a solution to Ford's problems in Europe will not be instantaneous, I am confident that the company will move quickly to cut costs and improve its competitiveness in Europe. For that reason, I think Ford offers a compelling risk-reward profile today.